What is Classical Economics?

Definition: An economic theory that focuses on allowing individuals to pursue their self interest in a free environment to increase productivity. In other words, classical economics is a school that proposes a free market that encourages individual entrepreneurship.

What Does Classical Economics Mean?

Classical economics became popular between the 18th and the 19th century and had a lot of precursors such as Adam Smith, Karl Max, Jean-Baptiste Say, among others. The main idea of classical economics is that productivity can be increased by allowing the market to function freely and by letting individuals pursue the fulfillment of their own, somehow selfish, interests. By introducing a concept called “the invisible hand” classic economists stated that the market had the ability to self-regulate and to keep players acting within legal boundaries.

In addition, by allowing individuals to pursue their own goals, classical economists predicted that society’s interests will be also fulfilled. The ideas behind classical economics still have a lot of influence in today’s economic environment. Some of the concepts associated with classical economics operate somehow efficiently in different aspects of our everyday lives.

Here’s a simple illustration of how a classical economic principle works in practice.

Example

A person is allowed to trade securities in the open market through a broker. In this market there are 3 different players interacting: the buyer, the broker and the seller. These three players have a different set of interests. The buyer wants to buy a given security at the lowest price possible, the seller wants the opposite and the broker wants the transaction to be completed successfully to charge a commission. This is a situation in which the “invisible hand” principle theorized by classical economists can be seen.

According to classical economics, by letting these 3 players pursue their individual interests freely in a softly-regulated environment, productivity can be increased. As we know, in practice, the transaction will be settled easily as the free market allows parties to agree on the settlement price quickly and the broker will facilitate the transaction because of this will also fulfill its own interest. This situation illustrate how productivity can be increased by applying classical economics principles.